“It’s the epitome of the dog days of summer,” Kent Engelke, managing director at Capitol Securities Management Inc told WSJ today, adding that “we’re all just sitting on our hands.”
Indeed. Fed Vice Chair Stanley Fischer spoke in Colorado on Sunday and although the message was just as muddled as you’d expect it to be given that it emanated from an FOMC official, the market generally seems to have latched onto comments about inflation and employment targets.
“We’re within hailing distance,” Fischer said.
Who knows what that means and he had plenty of cautionary commentary on lackluster productivity growth, which of course could be considered a nod to the need for the continuation of dovish policy.
(Chart: Deutsche Bank)
But “hailing distance” is today’s buzzword and so we’ve got cautious (and erratic) markets, a firm dollar, and slumping crude.
“They don’t understand what’s wrong with productivity and are inclined to accept that there may be nothing monetary policy can do about it anyway,” Bloomberg’s Richard Breslow said this morning before describing what has become a truly absurd effort to preserve any and all optionality: “On inflation, if NFP is weak, they’ll have ‘core is still below 2%’. If strong, Option B, Fischer’s ‘within hailing distance’ of target.”
You also want to keep this chart in the back of your mind:
(Chart: Deutsche Bank)
So that’s LIBOR less the general collateral rate and it’s basically showing you that unsecured funding is becoming increasingly expensive. As we’ve documented here and extensively elsewhere, the run-up in LIBOR is due to an upcoming shift in the money market regulatory regime that will now require prime funds to report a floating net asset value. That’s led directly to an exodus from those funds and into government money market funds which in turn means less money available for commercial paper and CD funding. In other words, it acts like a rate hike. Here’s Deutsche Bank:
“The libor blow up is real and while the worst seems over, itself amounts to a partial Fed tightening. We don’t expect much from Yellen at Jackson Hole, it is not apparently her favorite venue anyway for policy pronouncements. Still it will be important for the current market equilibrium that she doesn’t stoke any smoldering ash. And on that basis we are still inclined to fade Fed hike expectations and favor lower nominal yields led by much lower real yields.”
And here’s a bit from Bloomberg on the same dynamic:
“This differential treatment is now distorting markets. Ahead of October, when the new rules are due to take effect, investors are shifting tens of billions of dollars from the affected funds -- which cater to large corporate clients and invest in the debt of banks, companies and municipalities -- into those that are still allowed to promise that their shares are always worth a dollar (see chart). The covered funds are also hoarding cash to prepare for further withdrawals. All this is squeezing credit.”
So essentially, this is just one more thing the Fed needs to incorporate in its already convoluted reaction function, especially considering the fact that by most accounts there’s considerable room for more outflows from prime funds between now and October, when the new regulations actually go into effect.
As for crude - which is off some 3% - we’ve gotten into this kind of ridiculous loop where every time we get close to $50 US producers start talking about “gettin’ back at it” which invariably leads to still more supply concerns sending oil back down again. It’s truly a self-defeating process.
“If you think the dollar is strengthening, you’re bearish on commodities and on many emerging markets, which have funded themselves in dollars,” Allianz’s Neil Dwane remarked, earlier today. Recall our discussion of the EM USD debt issue from last week. Again, another thing the Fed has to be mindful of.
In any event, expect markets to sleepwalk through the week until Yellen’s Jackson Hole speech where you’ll probably hear the phrase “on the one hand…” at least 15 times.